You should read the following discussion in conjunction with the consolidated financial statements and the notes to those statements included in this Annual Report on Form 10-K ("Annual Report"). This Annual Report contains certain statements that are forward-looking within the meaning of the Private Securities Litigation Reform Act of 1995. Certain statements contained in the MD&A are forward-looking statements that involve risks and uncertainties. The forward-looking statements are not historical facts, but rather are based on current expectations, estimates, assumptions and projections about our industry, business and future financial results. Our actual results could differ materially from the results contemplated by these forward-looking statements due to several factors, including those discussed in other sections of this Annual Report. See "Risk Factors" and "Forward-looking Statements."
Teradata is a provider of a leading connected multi-cloud data platform for enterprise analytics, focused on helping companies leverage all their data across an enterprise, at scale. In doing so, we help companies to find answers to their toughest business challenges. All of our efforts are in support of our purpose of transforming how businesses work and people live through the power of data. Our platform is composed of our data platform - Teradata Vantage 27
- which is designed to run across on-premises, private cloud and public cloud environments. This platform is supported by business consulting and support services that enable customers to extract insights from across a company's entire data and analytics ecosystem. Teradata's strategy is discussed under Part I, Item I of this Annual Report on Form 10-K. We are continuing to execute on our key priorities, including significant product expansion of our Teradata Vantage multi-cloud data platform offering, expanding our footprint with existing customers and adding new customers, increasing our focus on diversity and inclusiveness, and driving operational excellence and agility across the company.
To provide greater transparency regarding the progress we are making towards our strategic objectives, we use the following financial and performance measures:
•Annual Recurring Revenue ("ARR") - annual value at a point in time of all recurring contracts, including subscription, cloud, software upgrade rights, and maintenance. ARR does not include managed services and third-party software. •Public Cloud ARR (included within total ARR) - annual value at a point in time of all contracts related to public cloud implementations of Teradata Vantage and does not include ARR related to private or managed cloud implementations. •Cloud Net Expansion Rate - Teradata calculates its last-twelve months dollar-based cloud net expansion rate as of a fiscal quarter end as follows. We identify the ARR for active cloud customers in the fiscal quarter ending one year prior to the given fiscal quarter (the "base period"). We then identify the cloud ARR in the given fiscal quarter (the "current period") from the same set of active cloud customers as the base period, including increases in usage, as well as reductions and cancellations, and additional conversions of on-premises revenues to the cloud for customers active in the base period, all in constant currency. The quarterly dollar-based, cloud net expansion rate is calculated by taking the ARR from the current period and dividing by the ARR from the base period. The last twelve-month dollar-based cloud net expansion rate is calculated by taking the average of the quarterly dollar-based cloud net expansion rate from the last fiscal quarter and the prior three fiscal quarters.
During the twelve months ended
December 31, 2021, the effects of the coronavirus ("COVID-19") pandemic and the related actions by governments around the world to attempt to contain the spread of the virus impacted our business globally as described below. In response to the pandemic, we took actions to manage expenses and costs appropriately in light of the uncertainty COVID-19 has created, which has had a positive impact on our operating performance. We continue to monitor COVID-19 impacts to our business and have undertaken additional expense management and cost measures to further drive our operating performance and provide agility in the event of an unforeseen reduction in demand should it occur. During 2021, we also experienced increased volatility in foreign currency exchange rates, in part related to the uncertainty from COVID-19, as well as actions taken by governments and central banks in response to COVID-19. Certain foreign currency rates have depreciated significantly against the U.S.dollar during this period. We expect continued volatility in foreign currency exchange rates in 2022. Our supply chain has been relatively stable with respect to manufacturing and distribution capabilities during COVID-19; however, our supply chain is susceptible to volatility due to ongoing uncertainty as a result of ongoing international and domestic pandemic response and recovery efforts. Operationally, we have been able to run our business without significant interruptions, with the vast majority of employees working remotely. While consulting revenue is still impacted by work from home and travel restrictions, we have modified our business approach where applicable to work with customers remotely. Our customers' reduction in discretionary spending in light of COVID-19 uncertainties has also impacted our consulting business, with consulting projects being delayed or suspended by our customers. We implemented several employee engagement and communication programs designed to support employees' health and well-being while also enhancing their productivity during the pandemic. 28
Our priorities in formulating and implementing our response to the COVID-19 pandemic and related trade disruptions are:
•People - protecting the health and well-being of our employees, •Customers - proactively connecting with our customers to support their needs and meet our service level commitments, while continuing to help them gain real business value from their data assets, •Supply Chain - proactively working to monitor existing inventory, supplier availability and securing inventory for future quarters, •Financial - responsibly managing expenses and costs to provide financial agility during the extended period of global economic uncertainty, •Global Community - having our technology contribute to customers, partners and communities, particularly in healthcare and government, where collectively we can positively impact efforts in combating COVID-19, and •Future of Work - learning from productivity improvements and understanding our employees' preferences for their work location to implement a work model that reflects the future of work for the Company. As of the date of this Annual Report on Form 10-K, we are continuing to execute our pandemic response plan, and the
Teradata Pandemic Response Teamis refining and executing return-to-office plans. Under our return-to-office plans, none of our employees are required to return to an office environment and can choose to continue to work remotely or under a hybrid model. For employees choosing to return to the office environment, certain safety protocols will be required to be followed. Customer-facing teams are also proactively working to identify ways to assist customers, meet service level commitments, and engage with customers via virtual events. Despite these efforts, there remains a fair degree of uncertainty regarding the potential impact of the pandemic on our business, from both a financial and operational perspective, and the scope and costs associated with additional measures that may be necessary in response to the pandemic going forward. We will continue our diligent efforts to monitor and respond as appropriate to the impacts of the pandemic on our business, including the status of our workforce, supply chain, customers, suppliers, and vendors, based on the priorities described above. Our actions will continue to be informed by the requirements and recommendations of the federal, state or local authorities. We intend to remain agile and have contingency plans in place to appropriately respond to conditions as they unfold. For more information, see "Risk Factors" under Part I, Item 1A of this Annual Report on Form 10-K.
FINANCIAL OVERVIEW 2021
As discussed in more detail in later sections of this MD&A, here are the financial highlights for 2021:
$1,917 millionincreased by 4% in 2021 as compared to 2020, with an underlying 12% increase in recurring revenue primarily driven by our transition from perpetual to subscription-based transactions. The increase in recurring revenue was partially offset by a 28% decrease in perpetual software licenses, hardware and other revenue and a 10% decrease in consulting services revenue. The decline in consulting service revenue is primarily due to our focus on higher-margin engagements. •Gross profit was 61.9% in 2021, an increase from 55.5% in 2020, primarily due to a higher recurring revenue mix as compared to the prior year. •Operating expenses in 2021 decreased by 5% as compared to 2020, primarily driven by a lower employee cost base resulting from the workforce reduction measures taken in 2020. •Operating income was $231 millionin 2021, up from $16 millionin 2020. •Net income was $147 millionin 2021 versus net income of $129 millionin 2020, primarily due to improved revenue mix and lower operating expenses. Diluted net earnings per share was $1.30in 2021 compared to diluted earnings per share of $1.16in 2020. 29
RESULTS OF OPERATIONS FOR THE YEAR ENDED
July 2019, the Financial Accounting Standards Board("FASB") issued Accounting Standards Update 2019-07, "Codification Updates to SECSections-Amendments to SEC Paragraphs Pursuant to SEC Final Rule Releases No. 33-10532, Disclosure Update and Simplification", which makes a number of changes meant to simplify certain disclosures in financial condition and results of operations, particularly by eliminating year-to-year comparisons between prior periods previously disclosed. In accordance with the relevant aspects of the rule covering the current year annual report, we now include disclosures on results of operations for fiscal year 2021 versus 2020 only. For discussion of fiscal year 2020 versus 2019 see "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations" in our Annual Report filed with the SECfor the fiscal year ended December 31, 2020. Revenue % of % of In millions 2021 Revenue 2020 Revenue Recurring $ 1,46476.4 % $ 1,30971.3 % Perpetual software license, hardware and other 77 4.0 % 107 5.8 % Consulting services 376 19.6 % 420 22.9 % Total revenue $ 1,917100 % $ 1,836100 % 2021 compared to 2020 - Total revenue increased 4% in 2021 and included a 1% positive impact from foreign currency fluctuations. Recurring revenue grew 12% in 2021 and included a 1% positive impact from foreign currency fluctuations. Recurring revenue was positively impacted primarily due to a higher base of revenue driven by continued growth in public cloud and subscription ARR during 2020 and 2021. Additionally, on-premises customer transactions involving substantive long-term commitments resulted in revenue being recognized on a recurring annual basis rather than a recurring quarterly basis resulting in approximately $30 millionof net positive impact in 2021 compared to 2020. For full year 2022, recurring revenue is expected to grow at a low-to-mid-single-digit percentage year-over-year. Taking into consideration the growth in recurring revenue offset by reduced perpetual software licenses, hardware and other revenue and reduced consulting services revenue, total revenue is expected to be flat-to-low-single-digit percentage growth year-over-year. Revenues from perpetual software licenses, hardware and other were down 28% in 2021, as customers continue to transition to our subscription-based offerings, consistent with our overall strategy. Aligned with our strategy, we expect perpetual software licenses, hardware and other revenue to decline in 2022. Consulting services revenue decreased 10%, including a 2% positive impact from foreign currency fluctuations, primarily due to the realignment and focus of our consulting resources on higher-margin engagements that are intended to drive increased software consumption within our targeted customer base. Consistent with our continued focus on higher-margin engagements that further our strategy, we are forecasting a low-double-digit decline year-over-year in 2022 consulting services revenue. As a portion of the Company's operations and revenue occur outside the United States, and in currencies other than the U.S.dollar, the Company is exposed to fluctuations in foreign currency exchange rates. Based on currency rates as of January 31, 2022, Teradata is estimating a 2.0%-to-2.5% negative impact from currency translation on our 2022 full-year total revenues.
Below are the financial growth and performance indicators we used to track the progress of our transformation, the success of our business strategy, and Teradata’s overall financial position for 2021:
$1.492 billionat the end of 2021, a 5% increase from $1.425 billionat the end of 2020; and •Public Cloud ARR was $202 millionat the end of 2021, a 91% increase from $106 millionat the end of 2020.
Our ARR is made up of three main categories: (1) Public Cloud ARR, (2) ARR related to on-premises and private cloud subscription agreements (“Subscription ARR”), and (3) ARR related to our maintenance perpetual inherited. and software upgrade rights. AT
30 -------------------------------------------------------------------------------- Table of Contents •$202 million in Public Cloud ARR; •$898 million in Subscription ARR; and •$392 million in maintenance and software upgrade rights ARR. Public Cloud ARR increased 91% versus the prior year primarily due to on-premises customers migrating to Teradata Vantage in the cloud along with strong net expansion rates in excess of 130%. Subscription ARR increased 8% in 2021 from the prior year due to expansions of existing customers and new customer logos. Our maintenance and software upgrade rights ARR declined 20% compared to 2020. This was expected as the Company continued its transition to a subscription model and customers increasingly purchased Teradata on a subscription and/or public cloud basis. Our overall ARR growth was driven by increased participation by cloud specialists on our account teams, increasing partner involvement on existing customer migrations and new logo accounts. For the full year 2022, Public Cloud ARR is expected to increase by approximately 80% year-over-year. Total ARR is expected to grow at a mid-to-high-single-digit percentage year-over-year. Gross Profit
The Company often uses specific terms and definitions to describe gross margin variances. The most frequently used terms and definitions are:
•Revenue Mix - The proportion of recurring, consulting, and perpetual software licenses and hardware that generates the total revenue of the Company. Changes in revenue mix can have an impact on gross profit even if total revenue remains unchanged.
• Recurring Revenue Mix – The proportion of various recurring revenue offerings that make up total recurring revenue. For example, a higher mix of onsite subscriptions, including equipment rental, could negatively impact total recurring gross profit.
•Deal Mix - Refers to the type of transactions closed within the period that generate the total perpetual software license and hardware revenue. For example, a higher mix of Teradata versus third-party products can impact profitability.
Gross profit for subsequent years completed
% of % of In millions 2021 Revenue 2020 Revenue Gross profit Recurring
$ 1,09975.1 % $ 93871.7 % Perpetual software licenses, hardware and other 34 44.2 % 43 40.2 % Consulting services 53 14.1 % 38 9.0 % Total gross profit $ 1,18661.9 % $ 1,01955.5 % 2021 compared to 2020 - The increase in recurring revenue gross profit, as a percentage of revenue was primarily driven by a higher amount of recurring revenue at an improved gross margin rate primarily resulting from improved operating efficiencies of our subscription and cloud offerings and partially offset by the higher mix as a result of our customers transitioning to cloud. Upfront revenue recognition of certain renewed and expanded on-premises customer arrangements, as discussed above, also had a positive impact on recurring revenue gross margin. The increase in perpetual software licenses, hardware and other gross profit as a percentage of revenue was primarily driven by deal mix and opportunities with lower hardware mix as compared to prior year. Consulting services gross profit as a percentage of revenue increased as compared to the prior year primarily due to improved resource mix utilization as well as increased profit dollar realization from our continued strategic focus to improve consulting margins by executing on higher-value projects. The Company expects to continue to focus our consulting organization on Teradata Vantage-oriented offerings and reduce our footprint in non-core consulting engagements.
For 2022, we expect overall gross margin as a percentage of revenue to be slightly lower than 2021. Recurring gross margin is expected to be lower due to a higher mix of cloud revenue at a similar gross margin rate to of 2021. We are
also investing in activities that continue to drive increased adoption and consumption of Teradata Vantage, including greater efficiencies with cloud service providers, offset by enhancements to our consumption pricing model. In addition, we are forecasting less of a positive impact from upfront recurring revenue that benefited our results in 2021. Consulting services margin is expected to be at a similar gross margin rate as 2021, and we anticipate lower gross margin rates in perpetual software licenses, hardware and other in 2022 compared to 2021. Operating Expenses % of % of In millions 2021 Revenue 2020 Revenue Operating expenses Selling, general and administrative expenses
$ 64633.7 % $ 66936.4 % Research and development expenses 309 16.1 % 334 18.2 % Total operating expenses $ 95549.8 % $ 1,00354.6 % 2021 compared to 2020 - The decrease in selling, general and administrative ("SG&A") expense was primarily driven by a lower employee cost base resulting from workforce reduction measures in 2020, reduced travel and marketing spend as compared to the prior year pre-pandemic period (January - March 2020), and continued cost discipline as compared to prior year. This decrease in SG&A expense was partially offset by higher variable incentive compensation that was tied to Teradata's financial performance, higher cloud sales incentive compensation expenses, and additional investments in our go-to-market operations to further our transformation and cloud-first strategic focus. R&D expenses decreased in 2021 as compared to the prior year. R&D expenses were impacted by a lower employee cost base resulting from workforce reduction measures in 2020 and continued cost discipline as compared to the prior year partially offset by an increase in spending to focus our R&D efforts on accelerating our transformation and cloud-first strategy and related cloud initiatives, as well as higher variable incentive compensation expense due to Teradata's positive financial performance. We expect total operating expenses to increase in 2022 as we are accelerating our investments in cloud R&D, go-to-market, and customer success to drive growth and lifetime value with new and existing customers. Other Expense, net In millions 2021 2020 Interest income $ 6 $ 4Interest expense (26) (27) Other (19) (17) Total Other Expense, net $ (39) $ (40)Other expense, net in 2021 and 2020, is comprised primarily of interest expense on long-term debt and finance leases, as well as benefit costs for our pension and postemployment plans, partially offset by interest income earned on our cash and cash equivalents. Provision for Income Taxes
The effective tax rate for subsequent years ended
Effective tax rate 23.4% 637.5%
The 2021 effective tax rate included a net
$8 millionof discrete tax benefit, of which $3 millionof tax benefit was related to true-up adjustments to reconcile the Company's 2020 U.S. tax return versus the preliminary estimate as booked in its tax provision for the year ended December 31, 2020and $2 millionof tax benefit related to a reduction in the Transition Tax based on the Company's amended 2017 tax return. In addition, the Company recognized $4 millionof incremental tax benefit related to stock-based compensation. These tax benefits were partially offset by 32
The 2020 effective tax rate included a net
$157 millionof discrete tax benefit. The net discrete tax benefit of $157 millionwas recorded and relates to the transfer of foreign intellectual property as more fully described in Note 6 of Notes to Consolidated Financial Statements. In addition, the Company recognized a net $13 millionof tax benefit resulting from the CARES Act of 2020, which allows U.S.corporations a one-time opportunity to claim income tax refunds by allowing a 5-year net operating loss ("NOL") carry-back for taxable losses incurred in the tax year 2020. Teradata intends to carry back its 2020 NOL to claim a refund for taxes it paid in 2015, which created a one-time income tax benefit for the difference between the 35% 2015 carry back tax rate and the current 21% federal statutory rate. These tax benefits were partially offset by $9 milliontax expense related to stock-based compensation and $4 millionof incremental global intangible low-taxed income ("GILTI") tax. These discrete net tax benefits resulted in full-year total income tax benefit in 2020 of $153 million, on a pre-tax net loss of $24 million, causing a tax rate of 637.5%. The Company is expecting its full-year effective tax rate for 2022 to be approximately 32%, which takes into consideration, among other things, the forecasted earnings mix by jurisdiction and the estimated discrete items to be recognized in 2022. The forecasted tax rate is based on the overseas profits being taxed at an overall effective tax rate of approximately 27%, as compared to the federal statutory tax rate of 21% in the U.S.
Revenue and gross margin by operating segment
Teradata manages its business under three geographic regions, which are also the Company's operating segments: (1)
Americasregion ( North Americaand Latin America); (2) EMEA region ( Europe, Middle East, and Africa) and (3) APJ region ( Asia Pacificand Japan). For purposes of discussing results by segment, management excludes the impact of certain items, consistent with the manner by which management evaluates the performance of each segment. This format is useful to investors because it allows analysis and comparability of operating trends. It also includes the same information that is used by Teradata management to make decisions regarding the segments and to assess financial performance. The chief operating decision maker, who is our President and Chief Executive Officer, evaluates the performance of the segments based on revenue and multiple profit measures, including segment gross profit. For management reporting purposes, assets are not allocated to the segments. Our segment results are reconciled to total company results reported under GAAP in Note 14 of Notes to Consolidated Financial Statements.
The following table shows revenue and operating performance by segment for the years ended
% of % of In millions 2021 Revenue 2020 Revenue Segment revenue Americas
$ 1,04454.5 % $ 1,02555.8 % EMEA 543 28.3 % 485 26.4 % APJ 330 17.2 % 326 17.8 % Total segment revenue $ 1,917100 % $ 1,836100 % Segment gross profit Americas $ 69066.1 % $ 63161.6 % EMEA 337 62.1 % 273 56.3 % APJ 188 57.0 % 168 51.5 %
Total sector gross profit
% 2021 compared to 2020
hardware revenue and a 15% decline in consulting revenue. Segment gross margin, as a percentage of revenue, increased primarily due to a higher overall mix of recurring revenue.
EMEA revenue increased 12%, which included a 3% favorable impact from foreign currency fluctuations. An increase of 19% in EMEA recurring revenue and 1% in consulting revenue was partially offset by a decrease of 5% in perpetual software licenses and hardware revenue. EMEA segment gross profit, as a percentage of revenues, was higher primarily due to a higher mix of recurring revenue. APJ APJ revenue increased 1%, which included a 3% favorable impact from foreign currency fluctuations. An increase in APJ recurring revenue of 16% was partially offset by a decrease of 24% in perpetual software licenses and hardware revenue and a decrease in consulting revenue of 17%. APJ segment gross profit, as a percentage of revenues, was higher primarily due to a higher mix of recurring revenue.
FINANCIAL POSITION, LIQUIDITY AND CAPITAL RESOURCES
Teradata ended 2021 with
$592 millionin cash and cash equivalents, a $63 millionincrease from December 31, 2020, after using approximately $244 millionfor repurchases of Company common stock during the year. Cash provided by operating activities increased by $196 millionto $463 millionin 2021 compared to 2020. Teradata used approximately $40 millionof cash in 2021 for reorganizing and restructuring its operations and go-to-market functions to align to its cloud-first strategy, as compared to $58 millionused in 2020 for this purpose. The increase in cash provided by operating activities was primarily due to improved profitability and differences in timing of various components of working capital. Teradata's management uses a non-GAAP measure called "free cash flow," which is not a measure defined under GAAP. We define free cash flow as net cash provided by operating activities less capital expenditures for property and equipment and additions to capitalized software. Free cash flow is one measure of assessing the financial performance of the Company, and this may differ from the definition used by other companies. The components that are used to calculate free cash flow are GAAP measures taken directly from the Consolidated Statements of Cash Flows. We believe that free cash flow information is useful for investors because it relates the operating cash flow of the Company to the capital that is spent to continue and improve business operations. In particular, free cash flow indicates the amount of cash available after capital expenditures for, among other things, investments in the Company's existing businesses, strategic acquisitions, and repurchase of Teradata common stock. Free cash flow does not represent the residual cash flow available for discretionary expenditures since there may be other non-discretionary expenditures that are not deducted from the measure. This non-GAAP measure should not be considered a substitute for, or superior to, cash flows from operating activities under GAAP.
The table below shows the net cash provided by operating activities and capital expenditures for the following periods: In millions
Net cash flow generated by operating activities
Less: Expenditures for property, plant and equipment (28) (44) Additions to capitalized software
(3) (7) Free cash flow
$ 432 $ 216Financing activities and certain other investing activities are not included in our calculation of free cash flow. There were no other investing activities in 2021 and 2020. Teradata's financing activities for the year ended December 31, 2021primarily consisted of cash outflows of $244 millionfor share repurchases, repayment of our term loan of $44 millionand $92 millionof payments on finance leases, partially offset by $24 millionnet inflows from other financing activities. 34
Teradata's financing activities for the year ended
December 31, 2020primarily consisted of cash outflows of $100 millionfor share repurchases, repayment of our term loan of $25 millionand $70 millionof payments on finance leases, partially offset by $9 millionnet inflows from other financing activities. The Company purchased 5.8 million shares of its common stock at an average price per share of $41.94in 2021 and 4.8 million shares of its common stock at an average price per share of $20.81in 2020. Share repurchases were made under two share repurchase programs initially authorized by our Board of Directors in 2008. The first of these programs (the "dilution offset program") authorizes the Company to repurchase Teradata common stock to the extent of cash received from the exercise of stock options and the Teradata Employee Stock Purchase Plan ("ESPP") to offset dilution from shares issued pursuant to these plans. As of December 31, 2021, under the Company's second share repurchase program (the "general share repurchase program"), the Company had approximately $1,213 millionof authorization remaining to repurchase outstanding shares of Teradata common stock. Share repurchases made by the Company are reported on a trade date basis. As part of its general share repurchase program, on February 9, 2022, the Company entered into a $250 millionaccelerated share repurchase agreement with JP Morgan as described in more detail in Note 17 of Notes to Consolidated Financial Statements. Proceeds from the ESPP and the exercise of stock options, net of tax paid for shares withheld upon equity award settlement, were $24 millionin 2021 and $9 millionin 2020. These proceeds are included in other financing activities, net in the Consolidated Statements of Cash Flows. Our total cash and cash equivalents held outside the United Statesin various foreign subsidiaries was $401 millionas of December 31, 2021and $338 millionas of December 31, 2020. The remaining balance held in the United Stateswas $191 millionas of December 31, 2021and $191 millionas of December 31, 2020. The Company considers a majority of its foreign earnings as not indefinitely reinvested outside the United States. Effective January 1, 2018, the United Statesmoved to a territorial system of international taxation and, as such, will generally not subject future foreign earnings to United Statestaxation upon repatriation in future years. Management believes current cash, cash generated from operations and the $400 millionavailable under the Credit Facility will be sufficient to satisfy future working capital, research and development activities, capital expenditures, pension contributions, and other financing requirements for at least the next twelve months. The Company principally holds its cash and cash equivalents in bank deposits and highly-rated money market funds. The Company's ability to generate positive cash flows from operations is dependent on general economic conditions, competitive pressures, and other business and risk factors described in this Annual Report. If the Company is unable to generate sufficient cash flows from operations, or otherwise to comply with the terms of the credit facility and term loan agreement, the Company may be required to seek additional financing alternatives.
Long-term debt. Our long-term debt and minimum debt at
Leases. In the normal course of business, the Company enters into operating and finance leases that impact, or could impact, our liquidity. Leases and minimum lease obligations as of
December 31, 2021are described in detail in Note 13 of Notes to Consolidated Financial Statements. Contractual and Other Commercial Commitments. In the normal course of business, we enter into various contractual obligations that impact, or could impact, our liquidity. The following table and discussion outline our material obligations at December 31, 2021, with projected cash payments in the periods shown: Total 2023- 2025- 2027 and In millions Amounts 2022 2024 2026 Thereafter Transition tax $ 69$ - $ 40 $ 29$ - Purchase obligations 611 170 279 162 -
Total transition tax and purchase obligations
Transition tax is the remaining payable balance as of
December 31, 2021of the one-time tax on accumulated foreign earnings resulting from the 2017 Tax Act. The payments associated with this deemed repatriation will be 35
paid over seven years ending in 2025. Purchase obligations are committed purchase orders and other contractual commitments for goods and services and include non-cancelable contractual payments for fixed or minimum amounts to be purchased in relation to service agreements with various vendors for ongoing telecommunications, information technology, hosting and other services. Additionally, the Company had
$43 millionof unrecognized tax benefits recorded on its balance sheet as of December 31, 2021, of which $22 millionis recorded in non-current liabilities, $2 millionis reflected as a current liability in taxes payable, and $19 millionis reflected as an offset to deferred tax assets related to certain tax attribute carryforwards. These items are not included in the table of obligations shown above. The settlement period for the non-current income tax liabilities cannot be reasonably estimated as the timing and the amount of the payments, if any, will depend on possible future tax examinations with the various tax authorities. However, the Company expects that $2 millionin payments will be due within the next 12 months. We also have postemployment and international pension obligations that may affect future cash flow. These items are not included in the table of obligations shown above. The Company is also potentially subject to concentration of supplier risk. Our hardware components are assembled exclusively by Flex Ltd. ("Flex"). Flex procures a wide variety of components used in the manufacturing process on our behalf. Although many of these components are available from multiple sources, Teradata utilizes preferred supplier relationships to better ensure more consistent quality, cost, and delivery. Typically, these preferred suppliers maintain alternative processes and/or facilities to ensure continuity of supply. Given the Company's strategy to outsource its manufacturing activities to Flex and to source certain components from single suppliers, a disruption in production at Flex or at a supplier could impact the timing of customer shipments and/or Teradata's operating results. In addition, a significant change in the forecasts to any of these preferred suppliers could result in purchase obligations or components that may be in excess of demand. Postemployment and pension obligations are described in detail in "Note 8-Employee Benefit Plans" in the Notes to Consolidated Financial Statements.
Off-balance sheet arrangements. We do not engage in transactions that generate relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities, which may have been established for the purpose of facilitating off-balance sheet arrangements or for the purpose of other close contractual arrangements. or for limited purposes.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
Our financial statements are prepared in accordance with GAAP. In connection with the preparation of these financial statements, we are required to make assumptions, estimates and judgments that affect the reported amounts of assets, liabilities, revenues, expenses and the related disclosure of contingent liabilities. These assumptions, estimates and judgments are based on historical experience and assumptions that are believed to be reasonable at the time. However, because future events and their effects cannot be determined with certainty, the determination of estimates requires the exercise of judgment. Our critical accounting policies are those that require assumptions to be made about matters that are highly uncertain. Different estimates could have a material impact on our financial results. Judgments and uncertainties affecting the application of these policies and estimates may result in materially different amounts being reported under different conditions or circumstances. Our management periodically reviews these estimates and assumptions to ensure that our financial statements are presented fairly and are materially correct. In many cases, the accounting treatment of a particular transaction is specifically dictated by GAAP and does not require significant management judgment in its application. There are also areas in which management's judgment in selecting among available alternatives would not produce a materially different result. The significant accounting policies and estimates that we believe are the most critical to aid in fully understanding and evaluating our reported financial results are discussed in the paragraphs below. Teradata's senior management has reviewed these critical accounting policies and related disclosures with the Audit Committee of Teradata's Board of Directors. For additional information regarding our accounting policies and other disclosures required by GAAP, see "Note 1-Description of Business, Basis of Presentation and Significant Accounting Policies" in the Notes to Consolidated Financial Statements. Revenue Recognition 36
January 1, 2018, we adopted ASC Topic 606, Revenue from Contracts with Customers ("ASC 606"). This standard replaced existing revenue recognition rules with a comprehensive revenue measurement and recognition standard and expanded disclosure requirements. Refer to Notes 1 and 3, of our audited consolidated financial statements included in this Annual Report on Form 10-K for discussion of our revenue recognition policies. Revenue recognition for complex contractual arrangements requires judgment, including a review of specific contracts, past experience, creditworthiness of customers, international laws and other factors. Specifically, complex arrangements with nonstandard terms and conditions may require significant contract interpretation to determine the appropriate accounting. We must also apply judgment in determining all performance obligations in the contract and in determining the standalone selling price of each performance obligation, considering the price charged for each product when sold on a standalone basis and applicable renewal rates for services and subscriptions. Changes in judgments about these factors could impact the timing and amount of revenue recognized between periods. The Company reviews the standalone selling price on a periodic basis and updates it, when appropriate, to ensure that the practices employed reflect the Company's recent pricing experience. The Company maintains internal controls over the establishment and updates of these estimates, which includes review and approval by the Company's management. For the year ended December 31, 2021there was no material impact to revenue resulting from changes in the standalone selling price, nor does the Company expect a material impact from such changes in the near term. Income Taxes In accounting for income taxes, we recognize deferred tax assets and liabilities based on the differences between the financial statement carrying amounts and the tax basis of assets and liabilities. The deferred tax assets and liabilities are determined based on the enacted tax rates expected to apply in the periods in which the deferred tax assets or liabilities are expected to be settled or realized. The Company made an accounting policy election in 2018 related to the 2017 Tax Act to provide for the tax expense related to GILTI in the year the tax is incurred. Effective January 1, 2018, the United Statesmoved to a territorial system of international taxation, and as such will generally not subject future foreign earnings to United Statestaxation upon repatriation in future years. The Company considers a majority of its foreign earnings not indefinitely reinvested outside of the United States. However, these distributions may be subject to non- U.S.withholding taxes if profits are distributed from certain jurisdictions; accordingly, the Company has recorded $4 millionof deferred foreign tax expense with respect to certain earnings that are not considered permanently reinvested. Deferred taxes have not been provided on earnings considered indefinitely reinvested. We account for uncertainty in income taxes by prescribing thresholds and attributes for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. We may recognize the tax benefit from an uncertain tax position only if it is more likely than not that the tax position will be sustained on examination by the taxing authorities, based on the technical merits of the position. We record any interest and/or penalties related to uncertain tax positions in the income tax expense line on our Consolidated Statements of Income. As of December 31, 2021, the Company has a total of $43 millionof unrecognized tax benefits, of which $22 millionis included in the other liabilities section of the Company's consolidated balance sheet as a non-current liability and $2 millionis reflected as a current liability in taxes payable. The remaining balance of $19 millionof uncertain tax positions relates to certain tax attributes generated by the Company which are netted against the underlying deferred tax assets recorded on the balance sheet. We regularly review our deferred tax assets for recoverability and establish a valuation allowance if it is more likely than not that some portion or all of a deferred tax asset will not be realized. We have recorded $58 millionin 2021 and $51 millionin 2020 for valuation allowances, a majority of which offset our California R&D tax credit carryfoward, as the Company expects to continue to generate excess California R&D tax credits into the foreseeable future. On January 1, 2020, we transferred certain of our intellectual property among our wholly-owned subsidiaries, which resulted in the recognition of deferred tax assets of $157 million. The recognition of deferred tax assets from intra-entity transfers of intellectual property required us to make significant estimates and assumptions to determine the 37
fair value of such intellectual property. Significant assumptions in valuing the intellectual property include, but are not limited to, internal revenue and expense forecasts, and the discount rate. The sustainability of our future tax benefits is dependent upon the acceptance of these valuation estimates and assumptions by the taxing authorities.
We issue service-based and performance-based restricted share units. We measure compensation cost for service-based restricted share unit awards at fair value and recognize compensation expense over the service period. Our performance-based restricted share units vest only if specific performance conditions are satisfied. The number of shares that will be earned pursuant to our performance-based restricted share unit awards can vary based on actual performance. No shares will vest if the threshold objectives are not met. In the event the objectives are exceeded, additional shares will vest up to a maximum payout. The cost of our performance-based restricted share awards is expensed over the performance period based upon management's estimate and analysis of the probability of meeting the performance criteria. Because the actual number of shares to be awarded is not known until the end of the performance period, the actual compensation expense related to our performance-based restricted share unit awards could differ from our current expectations. We account for forfeitures for both service-based and performance-based restricted share units as they occur instead of estimating forfeitures at the time of grant and revising those estimates in subsequent periods if actual forfeitures differ from our estimates.
The Company reviews goodwill for impairment annually and whenever events or changes in circumstances indicate the carrying value of goodwill may not be recoverable. For 2019, the Company performed a quantitative impairment test. In this test, the Company compares the fair value of each reporting unit to its carrying value. The Company typically determines the fair value of its reporting units using a weighting of fair values derived from the income and market approaches. Under the income approach, the Company calculates the fair value of a reporting unit based on the present value of estimated future cash flows. The market approach estimates fair value based on market multiples of revenue and earnings derived from comparable companies with similar operating and investment characteristics as the reporting unit. If the fair value of the reporting unit exceeds the carrying value of the net assets assigned to that unit, goodwill is not impaired. If the carrying value of the net assets assigned to the reporting unit exceeds the fair value of the reporting unit, then the Company records an impairment loss equal to the difference. In the fourth quarter of 2021, the Company performed its annual impairment test of goodwill and determined that no impairment to the carrying value of goodwill was necessary. Determining the fair value of goodwill and acquired intangibles is judgmental in nature and involves the use of significant estimates and assumptions. These estimates and assumptions include revenue growth rates and operating margins used to calculate projected future cash flows, discount rates and future economic and market conditions. The Company's estimates are based upon assumptions believed to be reasonable, but which are inherently uncertain and unpredictable. These valuations require the use of management's assumptions, which may not reflect unanticipated events and circumstances that may occur.
January 1, 2019, the Company adopted ASU No. 2016-02, "Leases (Topic 842)", which requires leases with durations greater than twelve months to be recognized on the balance sheet. We determine if a contract contains a lease at inception. Our material operating leases primarily consist of automobiles in certain countries and real estate, including office, storage and parking space. Our operating leases generally have remaining terms of 2-5 years. Our finance leases primarily consist of equipment financed for the purpose of delivering services to our customers and generally have terms of 3 years. Operating lease assets and liabilities are recognized at the lease commencement date. Operating lease liabilities represent the present value of lease payments not yet paid. Operating lease assets represent our right to use an underlying asset and are based upon the operating lease liabilities adjusted for prepayments or accrued lease payments, initial direct costs, lease incentives, and impairment of operating lease assets. To determine the present value of lease payments not yet paid, when available, we use the rate implicit in the lease. However, real estate leases do not typically provide a readily determinable implicit rate. Therefore, we estimate the incremental 38
borrowing rate to discount the lease payments based on information available at lease commencement. The incremental borrowing rate used in the calculation of the lease liability is based on the secured rate associated with financed lease obligations for each location of leased property. Many of our leases include variable rental escalation clauses which are recognized when incurred. Some of our leases also include renewal options and/or termination options that are factored into the determination of lease payments and lease terms when it is reasonably certain that the Company will exercise these options. Lease agreements do not contain any material residual value guarantees or material restrictive covenants. Leases with an initial term of 12 months or less are not recorded on the balance sheet. Changes in judgments and estimates, such as the likelihood of renewal options, impairments, or the incremental borrowing rate could impact the amounts of assets or liabilities recorded or could impact the amount of cost or expense recognized between periods.
Pensions and post-employment benefits
We measure pension and postemployment benefit costs and credits using actuarial valuations. Actuarial assumptions attempt to anticipate future events and are used in calculating the expense and liability relating to these plans. These factors include assumptions we make about interest rates, expected investment return on plan assets, total and involuntary turnover rates, and rates of future compensation increases. In addition, our actuarial consultants also use subjective factors such as withdrawal rates and mortality rates to develop our valuations. We review and update these assumptions on an annual basis at the beginning of each fiscal year. We are required to consider current market conditions, including changes in interest rates, in making these assumptions. The actuarial assumptions that we use may differ materially from actual results due to changing market and economic conditions, higher or lower withdrawal rates, or longer or shorter life spans of participants. These differences may result in a significant impact to the measurement of our pension and postemployment benefit obligations and to the amount of pension and postemployment benefits expense we have recorded or may record. For example, as of
December 31, 2021, a one-half percent increase/decrease in the discount rate would change the projected benefit obligation of our pension plans by approximately $11 million, and a one-half percent increase/decrease in our involuntary turnover assumption would change our postemployment benefit obligation by approximately $8 million.
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
An analysis of recently issued accounting pronouncements is described in “Note 1 – Description of business, method of presentation and significant accounting policies” in the notes to the consolidated financial statements of this annual report, and we incorporate this analysis by reference.
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